Brussels probes Luxembourg over tax deal for Fiat

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Brussels has challenged Luxembourg over a tax ruling offering potentially illicit support to a Fiat subsidiary, opening a highly sensitive in-depth investigation just as the Grand Duchy’s former premier prepares to take the helm of the EU executive.

In a decision outlining its initial conclusions from the first stage of its state aid probe, the European Commission argues that the Fiat finance subsidiary received favourable treatment in calculating its taxable income. It warns that illicit subsidies given to Fiat may need to be clawed back.

The case is one of three – Irish tax deals with Apple, Fiat’s arrangements with Luxembourg and Starbucks’ tax treatment in the Netherlands – that are currently under in-depth investigation by the commission.

Brussels’ case against Luxembourg rests on whether a complex transfer pricing report, which relates to transactions between corporate subsidiaries, effectively gave Fiat an artificially fixed tax base.

Attempts by investigators to access information has also prompted a tense dispute between the Grand Duchy and Brussels, which is still playing out in court.

It comes Jean-Claude Juncker, the former Luxembourg premier, prepares to take over as European Commission president. He has in the past angrily denied suggestions that Luxembourg is a tax haven.

In a statement, Luxembourg said it was “fully co-operating with the commission in the investigation” and was “confident” that the allegations of state aid are “unsubstantiated”.

In its decision, the commission said the tax treatment given to Fiat had the effect of “reducing the charges the entity should normally bear in the performance of its business”. It added that “at this stage, the commission has no indication that the measure in question could be considered compatible with the internal market”.

Should the commission’s initial finding of illicit state support be confirmed, it has the power to order Luxembourg to recoup the aid stretching back for up to 10 years.

In this case, Brussels took the extraordinary step of ordering Luxembourg to comply with its information requests, including a demand to confirm the identity of the recipient of the anonymous arrangement. Fiat was identified from public sources.

More recently – particularly since the appointment of Mr Juncker – Luxembourg has been more co-operative with investigators. But it is fighting the commission’s demand for more information about tax rulings in the courts.

The probe into the taxation of Fiat’s Luxembourg cash management and treasury activities revolves around a tax ruling issued in 2012 to Fiat Finance and Trade (FTT), its Luxembourg subsidiary. Fiat has said it requested the tax ruling in question to clarify the transfer pricing rules to be applied in its financing activities to subsidiaries across the globe.

Fiat has already said it “did not request the ruling in connection with any tax exemption or facilitation” and it was confident that the review would confirm the legitimacy of the tax ruling. In a statement issued in June, when Brussels first announced its inquiry, it said: “The company has no reason to believe that any favourable treatment was contemplated by the tax authorities of Luxembourg in issuing such tax ruling, because in fact no such treatment was ever received.”

The commission said the agreement reached with Fiat appeared to result in it being charged a relatively fixed amount of tax that ranged from €2.288m to €2.796m.

This stemmed from calculations that assumed a fixed tax base of €2.542m plus or minus 10 per cent that took little account of the scope for fluctuations in its activities.

It said: “This type of approach – the practical equivalent of establishing a fixed tax base – could not reflect the economic reality unless there was a high probability that the underlying business remain stable throughout the term of the agreement.”

FTT’s tax bills were worked out by applying the normal tax rate of 28.8 per cent to its profits, which were calculated on the basis that a margin was being earned on the return on the group’s equity. The commission challenged the details of how much capital was being put at risk in performing the group’s functions and the level of return that was applied that capital.

The commission called into question the assumption that there was no credit risk involved in the transactions with other parts of the group, saying “it may well be that this assumption is not consistent with the arm’s length principle”.

It also highlighted what it said appeared to be an “error regarding the minimum capital requirements” required under international banking regulations. It said this error mean that one component of the “equity at risk” was “underestimated by at least a quarter and the tax base is too low”.

It also challenged the figure put on the risk associated with the equity, because it said the list of 66 companies used for the purpose of comparison included companies with very different activities.